Question

Sherene Nill manages a company that produces wedding gowns. She produces both a custom product that is made to order and a standard product that is sold in bridal salons. Her accountant prepared the following forecasted Income statement for March, which is a busy month. Custom Dresses Standard Dresses Total 30 $30,000 $ 8,000 9,000 Number of dresses Sales revenue Materials Labor Machine depreciation Rent Heat and light Other production costs Marketing and administration Total costs Operating profit $50,000 $10,000 20,000 600 4,200 1.000 300 2,800 600 $80,000 $18,000 29,000 900 7,000 1,600 2,800 7.700 $67,000 $13,000 Ms. Nili already has orders for the 10 custom dresses reflected in the March forecasted income statement. The depreciation charges are for machines used in the respective product lines. Machines depreciate at the rate of $1 per hour based on hours used, so these are variable costs. In March, cutting and sewing machines are expected to operate for 900 hours, of which 600 hours will be used to make custom dresses. The rent is for the building space, which has been leased for several years at $7,000 per month. The rent, heat, and light are allocated to the product lines based on the amount of floor space occupied. A valued customer, who is a wedding consultant, has asked Ms. Nill for a special favor. This customer has a client who wants to get married in early April, Ms. Nill's company is working at capacity and would have to give up some other business to make this dress. She can't renege on custom orders already agreed to, but she can reduce the number of standard dresses produced in March to 10 Ms. NilI would lose permanently the opportunity to make up the lost production of standard dresses because she has no unused capacity for the foreseeable future. The customer is willing to pay $24,000 for the special order. Materials and labor for the order will cost $6,000 and $10,000, respectively. The special order would require 140 hours of machine time. Ms. Nili's company would save 150 hours of machine time from the standard dress business given up. Rent, heat and light, and other production costs would not be affected by the special order. Required: a-1. Calculate the differential operating profit (loss). a-2. From an operating profit (loss) perspective for March, should Ms. Nill accept the order? b. What is the minimum price Ms. Nili should accept to take the special order?

Answer 1

Differential operating profit
	Without Special Order	With Special Order	Impact
Revenue	80000	89000	9000	Higher
Materials	18000	20000	2000	Higher
Labor	29000	34500	5500	Higher
Machine Depreciation	900	890	-10	Lower
Contribution Margin	32100	33610	1510	HIgher
Rent	7000	7000	0	NO Effect
Heat and Light	1600	1600	0	NO Effect
Other Production costs	2800	2800	0	NO Effect
Marketing and Administration	7700	7700	0	NO Effect
Operating Profit	13000	14510	1510	Higher
Yes, should accept since increase in profit
Minimum price = Current price - increase in profit = 24000-1510 = $22,490